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Recent Rally in Green Mountain Shares May be Nice Selling Opportunity: Competition Has Arrived

For the first time ever, Green Mountain Coffee Roasters (GMCR) is getting hit by massive competition, with major names like Starbucks (SBUX) and Kraft Foods Group (KRFT) launching into the single-serve coffee business that provides some 90% of its revenues. This battle will quickly determine whether Green Mountain shares return to the beaten down mess they lived in for much of the past year, before rallying of late, as seen in a stock chart.

GMCR Chart

GMCR data by YCharts

The onslaught officially started in September with the expiration of patents on K-Cups, the coffee-filled containers used in Green Mountain’s Keurig single cup coffee brewers. Green Mountain sells numerous versions of the machines, as well as the coffee for K-Cups. It gets paid for putting competing brands of coffee and other drinks into K-Cups too. This describes almost everything Green Mountain has to sell.

Starbucks, one of Green Mountain’s biggest K-Cup customers, started selling its own single-serve coffee machine in (not coincidentally) September. Green Mountain management downplays the injustice, noting that they have “multi-year” contracts, recently renewed, to pack Starbucks coffee into K-Cups. But there’s no question where Starbucks is going with this. Starbucks’ stores are cram packed with boxes of Varismo Pods, the K-Cup-like things for its new Varismo espresso and coffee brewer. They still sell K-Cups. They’re somewhere behind the stacks of Varismo boxes.

Like Starbucks, other Green Mountain customers wasted no time commissioning their own, royalty-free K-Cup-like dispensers when the patents expired. Kraft already has Maxwell House coffee in single-serve dispensers on grocery store shelves. Wal-Mart’s (WMT) Sam’s Club is reportedly planning its own private-label servings. You still have to have a Green Mountain Keurig machine to use them. But keep in mind that brewer sales were less than 20% of Green Mountain’s revenues for fiscal 2012, ended Sept. 29. K-Cup revenue was about $2.7 billion, or 70% of its overall $3.8 billion revenues. (Royalties are lumped in a category called “Other Products and Royalties.” Those comprised about 10% of revenues.)

Bunn, maker of restaurant-level coffee makers, is reportedly working on a single serve system for homes and offices. A bigger question is whether more big K-Cup customers, like Dunkin’ Brands Group (DNKN) or Caribou Coffee Co. (CBOU), will start making their own non-royalty dispensers too. Green Mountain has already cut K-Cup prices a little, but more knock-offs may require more cuts to hold market shares, and that would put more pressure on profit margins.

GMCR Gross Profit Margin TTM Chart

GMCR Gross Profit Margin TTM data by YCharts

The folks at Green Mountain expect to remain top dog in the field. Company revenue projections released with earnings Nov. 27 call for 14% to 18% growth in the first quarter, with full year revenues up 15% to 20%. They point out that unlike Starbucks’ Verismo, a Keurig machine gives you a lot of choice in drink and brand. (At least for now, Verismo makes only Starbucks’ drinks.) Green Mountain recently launched a more sophisticated brewer, Vue, which takes Vue packs instead of K-Cups. Those are patented into the 2020s.

Green Mountain made investors very rich by running a near-monopoly in a new, tiny, market: a decent, single cup of home brewed coffee. For investors, the Christmas selling season should provide a lot of clues about whether this company of $3.85 billion annual revenues can make it in a competitive market. Weak sales of Vue could signal trouble for years to come, because that means Vue packs won’t sell either. Weakness in single serve pack sales generally could mean drink makers are exploiting the new patent-free market or are throwing their fortunes to another company’s machine. Either way, they wouldn’t need K-Cups or Vue packs any more. In other words, if Santa isn’t good to Green Mountain this year, Green Mountain may not be good to investors for a very long time.

Dee Gill, a contributing editor at YCharts, is a former foreign correspondent for AP-Dow Jones News in London, where she covered the U.K. equities market and economic indicators. She has written for The New York Times, The Wall Street Journal, The Economist and Time magazine.

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